Happy New Year, and may 2012 be a year full of innovation, success, and happiness for you and your business. With the new laws that went into effect this month, employers have been (or should be) busy reviewing and revising their employee handbooks, offer letters, and employment policies to ensure compliance with the new California laws. Since you are knee deep in the process, I will spare you another post on the new laws that go into effect in 2012.

Instead, we’ll do a Q&A on the basics of paying employees on commission. Oh, and don’t forget that by January 2013, commission-based employment agreements for services provided in California will have to be in writing.

1. Who could be paid on commission?

Employees who are involved in selling a product or service; AND

Commission earnings are a percentage of the price of the service or product sold; AND

Employees’ sales duties must not include making the product or rendering the service.

2. Is it o.k. for employers to deduct commissions paid from future commissions?

It is permissible for an employer to have a commission policy that provides that in the event that an account was not paid, the commissions paid on that account would be recovered from future commissions paid to the salesperson.

BUT in California employers may not deduct from the salesperson’s commissions the cost incurred by the employer as a result of the default in payment unless the loss was caused by the employee’s dishonest or willful act, or culpable negligence.

EXAMPLE: Martha earns and is paid commission on a crystal china set that she sold. The customer later returns the china set with a receipt that identifies Martha as the salesperson. It is o.k. for the employer’s commission policy to allow for a deduction of the previously paid commission from Martha’s future commission check.

However, it would be illegal for Martha’s employer to deduct from Martha’s commissions the commission paid out on items that were returned but where the company is unable to identify the salesperson. Such a policy or practice would violate California’s Labor Code as well the Business and Professions Code Section 17200 as being an “unlawful, unfair, or fraudulent business practice.” See, Hudgins v. Neiman Marcus Group, Inc.

3. May commissions be forfeited upon termination?

Not generally.

Nevertheless, contractual terms must be met before an employee is entitled to a commission. Thus, whether commissions have been earned or forfeited depends on contractual interpretations and must be evaluated on a case-by-case basis. The court will look at the contract to determine whether the terms are fair and reflect the mutual expectations of the parties.

EXAMPLE: The California Court of Appeal has upheld a provision in a commission contract that terminates a salesperson’s right to earn commission 30-days after termination of employment. Thus, the court concluded that the salesperson was not owed a commission on a sale for which the customer did not remit payment within 30 days of the salesperson’s voluntary separation from employment. American Software, Inc., v. Ali. The court reached this conclusion based on the standards of commission payments in the software sales industry, the fact that the employee was aware of the provision and even had an attorney review it, and there was no evidence of surprise or coercion.

As you can see, the analysis depends on the facts of each case.

4. When an employment relationship ends, when must commissions be paid?

Upon termination of employment, an employer must pay the employee at the time of termination all commission wages earned that can be reasonably calculated at the time of termination. (Labor Code § 201)

Where an employee voluntarily quits without advance notice, all commission wages that can be reasonably calculated at the time must be paid to the employee within 72 hours of termination of the employment relationship. (Labor Code § 202)

If the commission has not yet been earned at the time of termination and is awaiting the completion of some legal condition precedent, for example, receipt of the customer’s payment, the commission must be paid to the employee immediately upon completion of the condition precedent.

TIPS: Although the new law requiring commission agreements to be in writing doesn’t go into effect until 2013, you will save yourself a lot of headache and ambiguity by having those agreements in writing. Clearly outline how and when commissions will be earned and paid, under what circumstances previously paid commissions may be deducted from future commissions, and whether commissions may be forfeited after termination of the relationship. Additionally, discuss these terms with the employee.

For additional information on California laws on paying employees commissions, here is Part II.

Are you an employer with a commission plan that pays employees quarterly, requires employees to be employed at the time commission is paid, or pays only commissions earned at the time of termination? If so, you may want a California employment attorney to review your commission plan and ensure that your commission plan does not violate California labor laws. Feel free to contact us or call (949) 529-0007.